Friday, April 25, 2014

The U.S. Court of Appeals for the Ninth Circuit recently held that the National Bank Act ("NBA") preempted California's Unfair Competition Law ("UCL") with respect to the order in which a national bank posted payment transactions and the bank's obligation to make affirmative disclosures to bank customers about its posting practices, ruling that the bank's method of posting was a federally authorized pricing decision related to the calculation of overdraft fees and the requirement to make particular disclosures fell squarely within the purview of federal banking regulation.

The Court also ruled, however, that the NBA did not preempt a claim for misrepresentation under the UCL as to the actual posting method the bank used, reasoning that the UCL's prohibition on misleading statements was a state law of general applicability that did not conflict with the NBA, mandate the actual content of the statements, frustrate the purposes of the NBA, or impair the ability of national banks to discharge their duties.

The Ninth Circuit further ruled that the Federal Arbitration Act did not require arbitration of the dispute over the bank's method of posting debit transactions, where the controlling arbitration agreement did not require disputes to be submitted to arbitration, the bank never demanded arbitration prior to the appeal, and ordering arbitration post-judgment and post-appeal would severely prejudice the plaintiffs and result in duplicative proceedings.

A customer ("Depositor") with a checking account at a national bank ("Bank") sued on behalf of a class under California's Unfair Competition Law ("UCL"), alleging that Bank engaged in unfair business practices by posting debit-card transactions in a "high-to-low" order which supposedly enabled Bank to maximize the number of overdrafts charged to a checking account on small purchases. In addition, Depositor claimed that Bank also engaged in fraudulent business practices by misleading its customers as to the actual posting method Bank used.

Rejecting Bank's arguments that the National Bank Act ("NBA") preempted the UCL and that Depositor lacked standing, the lower court certified the class and concluded among other things that Bank had acted in bad faith in both failing to disclose the effects of high-to-low posting and misleading its customers to believe that the posting order of debit purchases would mirror the order in which the purchases were made. Thus ruling that Bank's actions were both unfair and fraudulent under the UCL, the lower court entered a permanent injunction requiring Bank to cease posting debit-card transactions in high-to-low order and further imposed various disclosure requirements. The court also ordered Bank to pay over $200 million in restitution.

Both parties appealed, but Bank also sought to compel arbitration under an arbitration clause in Bank's deposit agreement with its customers.

The Ninth Circuit reversed in part and affirmed in part, ruling that: (1) the NBA preempted the "unfair" business practices prong of the UCL with respect to the order in which a national bank posts transactions; (2) the NBA preempted the imposition of affirmative disclosure requirements and liability for failure to disclose; and (3) the NBA did not preempt Depositor's claim under the "fraudulent" prong of the UCL based on affirmative misrepresentations in Bank's marketing materials as to the order in which Bank would post debit-card transactions.

The Court of Appeals also ruled that Bank could not compel arbitration in this case even after the U.S. Supreme Court's decision in AT&T Mobility LLC v. Concepcion.

As you may recall, the NBA authorizes national banks to receive deposits and grants national banks "all such incidental powers as shall be necessary to carry on the business of banking," which "incidental powers" include the power to set account terms and the power to charge customers non-interest charges and fees, including overdraft fees. See 12 U.S.C. § 24 (Seventh); 12 C.F.R. § 7.4002(a). In addition, federal banking regulations specifically delegate to national banks the method of calculating fees. 12 C.F.R. § 7.4002(b)(2)(method of calculating non-interest charges and fees "are business decisions to be made by each [national] bank, in its discretion, according to sound banking judgment and safe and sound banking principles" that include such factors as cost to bank, deterrence of misuse by customers, competitive advantage, and maintenance of safety and soundness of bank).

With respect to disclosure requirements, "[a] national bank may exercise its deposit-taking powers without regard to state law limitations concerning . . . [d[isclosure requirements." 12 C.F.R. § 7.4007(b)(3).

Finally, payor banks operating in California may accept or pay items in any order, provided that they act in good faith in charging customers overdraft or returned-check fees. See Cal. Com. Code § 4303, 1992 Amendment cmt. 7.

Analyzing each of Depositor's claims separately to determine whether they were preempted by the NBA, the Ninth Circuit examined whether the UCL "prevent[s] or significantly interfere[s] with [bank's] exercise of its powers. See Barnett Bank of Marion Cnty., N.A. v. Nelson, 517 U.S. 25, 33 (1996). In so doing, the Ninth Circuit noted in part that the ability to choose a method of posting transactions is integrally related to the receipt of deposits and that the lower court's permanent injunction amounted to a complete prohibition on the high-to-low sequencing method of posting. The Court further noted that federal banking regulations specifically delegate to national banks the method of calculating fees. See Watters v. Wachovia Bank, N.A., 550 U.S. 1, 12 (2007)(ruling that choice of posting method falls within federal banking regulatory power that ordinarily preempts contrary state law).

Thus, citing interpretive letters of the Office of the Comptroller of the Currency ("OCC") and observing that federal bank regulators consider high-to-low posting and associated overdraft fees to be authorized by Federal law and therefore within the power of a national bank, the Court of Appeals ruled that the district court's findings with respect to Bank's compliance with federal regulation were "inapposite to the issue of preemption." See, e.g., Martinez v. Wells Fargo Home Mortg., Inc., 598 F.3d 549, 556 n.8 (9th Cir. 2010); Baptista v. JP Morgan ChaseBank, N.A., 640 F.3d 1194, 1197 (11th Cir. 2011). Accordingly, the Court ultimately ruled that the lower court lacked the discretion to determine "what constitutes a legitimate pricing decision or to apply state law in a way that interferes with this enumerated and incidental power of national banks" and that the "good faith" requirement in California's Commercial Code applied through the UCL was similarly preempted.

Turning to the "fraudulent" prong of the UCL, the Ninth Circuit observed in part that federal regulations allow national banks to exercise their deposit-taking powers without regard to state-law limitations on disclosure requirements. See 12 C.F.R. § 7.4007(b)(3). Further observing that the lower court's imposition of liability on Bank for failure to sufficiently disclose its posting method was tantamount to state regulation of disclosure requirements, the Court stressed that the UCL does not impose disclosure requirements but simply prohibits misleading statements. The Court thus distinguished between state disclosure requirements imposed on national banks, which the court ruled were preempted by the NBA, and state law governing misleading statements, which were not so preempted.

Accordingly, with regard to such statements in Bank's marketing materials as "[i]f you don't have enough money in your account to cover the withdrawal, your purchase won't be approved," the Court ruled that the UCL's prohibition on misleading statements was a law of general applicability that did not "conflict with federal law, frustrate the purposes of the [NBA], or impair the efficiency of national banks to discharge their duties." As the Ninth Circuit explained, the UCL's prohibition of misleading statements did not significantly interfere with Bank's ability to offer checking account services, choose a posting method, or calculate fees. Citing, among other things, an OCC advisory letter indicating that national banks may be subject to state laws prohibiting unfair or deceptive practices, the Court ruled that Depositor's claim under the UCL for misrepresentation was not preempted by the NBA.

As to Bank's attempt to compel arbitration of Depositor's claims, the Ninth Circuit noted that: (1) the customer account agreement contained a permissive arbitration clause allowing but not mandating either party to submit a dispute to binding class arbitration; (2) the penalty for failure to consent to arbitration upon demand is bearing the costs involved in compelling arbitration; (3) Bank never demanded arbitration, raised it as a defense, or even mentioned it until after the U.S. Supreme Court had issued its decision in AT&T Mobility LLC v. Concepcion, 131 S. Ct. 1740 (2011), after the conclusion of the trial and the lower court had issued its judgment. Observing that Bank could have sought a stay pending the outcome of Concepcion, the Court relied on a prior opinion pointing out the prejudice that would result if the court ordered arbitration. See Fisher v. A.G. Becker Paribas Inc., 791 F.2d 691, 694 (9th Cir. 1986)(setting forth requirements for waiver of arbitration rights, including prejudice to the party opposing arbitration).

Thus, in light of the advanced stage of the litigation, the amount of discovery, trial preparation, briefing, and number of motions, the Ninth Circuit concluded that ordering arbitration at such a late juncture would severely prejudice Depositor and class members, essentially negate the effort expended in this case, and would frustrate the purposes of the Federal Arbitration Act to ensure that arbitration agreements are enforced according to their terms so as to facilitate streamlined proceedings.

Finally, the Court also rejected Bank's challenge to standing and class certification, ruling that Depositor had proven actual reliance on the misleading statements in Bank's marketing materials and that class members likely relied on them as well.

Accordingly, the Ninth Circuit vacated both the injunction on high-to-low posting and the restitution order, but affirmed the lower's court's finding of liability based on violations of the "fraudulent" prong of the UCL. The Court also remanded for a determination of appropriate relief on the misrepresentation claim.

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